So if you want to know if the famous stop loss orders will really help you reduce the risk of your investments or if the only thing you will get is to increase it, this article is for you.
Well, an order " stop loss " which could translate loosely as "stop loss" is an order limited conditional sale you can use to sell your shares automatically if the market price drops to that level.
A command " stop profit " instead, and that could translate just as vaguely as "for profit" is an order limited conditional sale you can use to sell your shares automatically in the event that the market price up until that level.
If you want to know more about the subject, I invite you to find out what kind of purchase orders you should use in your stock exchange investments.
For example, imagine that you buy your shares at € 10 per share, as you can see in the graph on the left. After making your purchase, you decide that in case the price of these goes up to a certain level, you will want to sell them. That's where you place your stop profit, marked with a green line .
At the same time, you decide that if the price of your shares falls to a certain level, you will also want to sell them. That's where you place your stop loss, marked on the chart with a red line .
The usefulness of these orders lies in trying to control the management of your investments based on their price without having to constantly check these prices .
Although the use of this type of orders has its origin in pure and hard speculation, some investors also use one or both types of orders in their long-term investment strategy. I personally do not like them, as they have three major drawbacks that completely cancel out their advantages.
Reason # 1: You can be forced to sell your shares at the worst possible moment
Stop loss orders can force you to sell your investments at the worst moment . To see it, imagine that you buy your shares at € 10 per share, as I mentioned in the previous graphic.
Well, if you place a stop loss order at € 9, for example, you are accepting that if the price of your shares falls by 10% your stop loss order will be executed and your position will be sold, as you can see in the chart of the right. Although it is commonly believed that in this way major losses are limited, what you are really doing is generating yourself unnecessary losses.
Think that if you bought your shares at € 10 it is because you believe, after the relevant analysis, that you are buying a good business at a good price , which makes it a good investment. So, why would you want to sell your shares if the price of these drops by 10%?
If you think about it rationally, you will not only be wasting the opportunity to buy more shares of that fantastic business 10% cheaper , but also you will be giving up your investment with your future profits and you will be generating absurd losses of 10% for your portfolio regarding your initial investment.
And I say absurd losses because if you have done your homework and continue to believe in the quality of the business behind those actions, and have also bought them with a good margin of safety , you should not care at all if your actions go down in price. 10%, 20% 0 30%.
Well, you should care about just enough to take advantage of those price reductions that change your life for the better . After all, you know that you can earn a lot of money if the price of your shares drops by 50% .
Therefore, I really believe that stop loss orders have no place in the strategy of an investor , since all they get is that you sell your shares at the worst moment leading to losses that you really should not bear if you keep your actions, while preventing you from increasing your positions at times of lower risk, when prices are lower.
Reason nº 2: They limit the time horizon of your investments
Another big drawback of stop loss orders is that they limit the time horizon of your investments.
This type of order automatically sells your position when the price drops to a certain level, with what I ask you: what logic does that have within your investment strategy?
Remember that you invest in the long term , so that the price of your shares, while they are still of quality, should not matter more than to add positions at more attractive prices.
For this reason, in a fall in prices it does not make sense to sell shares of good companies bought at good prices, since that is precisely the time to increase positions and enjoy a greater margin of safety and greater profitability.
Also, remember that time is the best friend of good investments , since the power of compound interest will cause your returns to grow exponentially without you having to do anything but keep your shares.
And investing in the long term means maintaining your investments while they continue to work well and generate good returns, so using stop loss you run the risk of executing your orders and selling your investments.
Reason # 3: Generate extra buying and selling commissions
Some investors have told me that placing stop losses feel psychologically safer. They argue that in the event that some strong movement of the stock market executes their stops, they are always in time to buy back their investments at prices similar to those of sale.
While this is true, if you stop to think about it for a moment it does not make any sense, because although you can quickly buy your shares at the same price as the stop loss order, you are generating sales and purchase commissions.
Needless to say, this is very inefficient for your portfolio. In this sense, if you want to feel safe with your investments without the need to place a stop loss, I encourage you to learn to select the best companies to invest in . In the long run it will bring you much more confidence, greater profitability and will save you money that you can use for what really matters: approaching your investment objectives.
However, for me the key to making money in the stock market is to buy good companies at the right prices, with the tools that force them to sell just when they should buy, which limit the time horizon of investments and generate extra commissions, They are not a good option.
My recommendation is that, if you are really convinced of the quality of your investments (if you are not, you should not invest), forget the stop loss and let the price flit freely and take advantage of your downs to buy more shares with an even lower risk.
And what do you think? Do you use stop loss orders in your investment strategy? What are your reasons for using them or for not taking them into account? Share your experiences in the comments!
What are stop loss orders?
One of the most common types of orders is limited conditioned orders , which allow you to place a purchase or sale order at a specific price. In this way you make sure to buy your shares at that price at most (or sell them at that price at least) in the event that the prices reach sufficient levels for them to run.Well, an order " stop loss " which could translate loosely as "stop loss" is an order limited conditional sale you can use to sell your shares automatically if the market price drops to that level.
A command " stop profit " instead, and that could translate just as vaguely as "for profit" is an order limited conditional sale you can use to sell your shares automatically in the event that the market price up until that level.
If you want to know more about the subject, I invite you to find out what kind of purchase orders you should use in your stock exchange investments.
Utility of stop loss and stop profit orders
Therefore, you have already realized that in theory the stop loss orders serve to limit your losses while the stop profit serve to limit your profits .For example, imagine that you buy your shares at € 10 per share, as you can see in the graph on the left. After making your purchase, you decide that in case the price of these goes up to a certain level, you will want to sell them. That's where you place your stop profit, marked with a green line .
At the same time, you decide that if the price of your shares falls to a certain level, you will also want to sell them. That's where you place your stop loss, marked on the chart with a red line .
The usefulness of these orders lies in trying to control the management of your investments based on their price without having to constantly check these prices .
Although the use of this type of orders has its origin in pure and hard speculation, some investors also use one or both types of orders in their long-term investment strategy. I personally do not like them, as they have three major drawbacks that completely cancel out their advantages.
3 reasons not to use stop loss on your investments
Since I do not want the use of this type of orders to harm the profitability of your portfolio, then I will show you the three reasons why you should not use stop loss in your investments. On the other type of orders, the stop profit, I will speak another day.Reason # 1: You can be forced to sell your shares at the worst possible moment
Stop loss orders can force you to sell your investments at the worst moment . To see it, imagine that you buy your shares at € 10 per share, as I mentioned in the previous graphic.
Well, if you place a stop loss order at € 9, for example, you are accepting that if the price of your shares falls by 10% your stop loss order will be executed and your position will be sold, as you can see in the chart of the right. Although it is commonly believed that in this way major losses are limited, what you are really doing is generating yourself unnecessary losses.
Think that if you bought your shares at € 10 it is because you believe, after the relevant analysis, that you are buying a good business at a good price , which makes it a good investment. So, why would you want to sell your shares if the price of these drops by 10%?
If you think about it rationally, you will not only be wasting the opportunity to buy more shares of that fantastic business 10% cheaper , but also you will be giving up your investment with your future profits and you will be generating absurd losses of 10% for your portfolio regarding your initial investment.
And I say absurd losses because if you have done your homework and continue to believe in the quality of the business behind those actions, and have also bought them with a good margin of safety , you should not care at all if your actions go down in price. 10%, 20% 0 30%.
Well, you should care about just enough to take advantage of those price reductions that change your life for the better . After all, you know that you can earn a lot of money if the price of your shares drops by 50% .
Therefore, I really believe that stop loss orders have no place in the strategy of an investor , since all they get is that you sell your shares at the worst moment leading to losses that you really should not bear if you keep your actions, while preventing you from increasing your positions at times of lower risk, when prices are lower.
Reason nº 2: They limit the time horizon of your investments
Another big drawback of stop loss orders is that they limit the time horizon of your investments.
This type of order automatically sells your position when the price drops to a certain level, with what I ask you: what logic does that have within your investment strategy?
Remember that you invest in the long term , so that the price of your shares, while they are still of quality, should not matter more than to add positions at more attractive prices.
For this reason, in a fall in prices it does not make sense to sell shares of good companies bought at good prices, since that is precisely the time to increase positions and enjoy a greater margin of safety and greater profitability.
Also, remember that time is the best friend of good investments , since the power of compound interest will cause your returns to grow exponentially without you having to do anything but keep your shares.
And investing in the long term means maintaining your investments while they continue to work well and generate good returns, so using stop loss you run the risk of executing your orders and selling your investments.
Reason # 3: Generate extra buying and selling commissions
Some investors have told me that placing stop losses feel psychologically safer. They argue that in the event that some strong movement of the stock market executes their stops, they are always in time to buy back their investments at prices similar to those of sale.
While this is true, if you stop to think about it for a moment it does not make any sense, because although you can quickly buy your shares at the same price as the stop loss order, you are generating sales and purchase commissions.
Needless to say, this is very inefficient for your portfolio. In this sense, if you want to feel safe with your investments without the need to place a stop loss, I encourage you to learn to select the best companies to invest in . In the long run it will bring you much more confidence, greater profitability and will save you money that you can use for what really matters: approaching your investment objectives.
Conclusion
As you can see, the disadvantages of stop loss orders mean that they do not have a place in a long-term investment strategy . I understand that in speculation, where you only look at the price without taking into account the quality of the company, a tool that only looks at the price may seem useful.However, for me the key to making money in the stock market is to buy good companies at the right prices, with the tools that force them to sell just when they should buy, which limit the time horizon of investments and generate extra commissions, They are not a good option.
My recommendation is that, if you are really convinced of the quality of your investments (if you are not, you should not invest), forget the stop loss and let the price flit freely and take advantage of your downs to buy more shares with an even lower risk.
And what do you think? Do you use stop loss orders in your investment strategy? What are your reasons for using them or for not taking them into account? Share your experiences in the comments!
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